“Many” is one way of describing the number of terms, lingo and definitions associated with the world of investing. (I personally like “ginormous”).

The challenge with the terminology that is used in the investment community isn’t just that there are so many, but the fact that individual terms can be used differently depending on what investment you’re talking about. All the different terms and variables create a confusing environment, that either puts you to sleep, or overwhelms you into a state of anxiety.

However, if you’re interested in making more money from the money you already have. And are interested in getting started in the world of investing. Then it is important you at least get familiar with some of the basic terminology that is used.

In classic FTP style – simple, concise and direct. And in the interest (no pun intended) of getting educated. Here are eight investment terms that can be applied across most investments and will allow you at a minimum to ask the right questions.

Investing or Investment – It’s the ability to take your money (all that cash you’re saving) and put it somewhere and make more money over time.

Vehicle – Nope not the one you drive. An investment vehicle is a product that you invest in with the intention of making more money. Certificate of Deposit, bonds, stocks and mutual funds are all different types of investment vehicles.

Interest Rate – a rate the bank pays you for the use of your money. Typically expressed as an annual rate or APR (Annual Percentage Rate). It’s a gauge for determining how much money you can make. Applies to checking, saving, money market accounts and CDs. Typically not associated with mutual funds or stocks.

Compounding – The effect of earning interest on your money, then earning more interest on the interest from your money. The more times your money is compounded the more money you make. Think of it like this, if you have $100 in your savings account and at the end of the year you make $5.00 in interest, your balance would now be $105. The following year if you maintain that same balance, you would be paid interest on $105.00 – you’re earning interest not only on the original balance of $100 but also the $5.00 in interest you earned the previous year. The more times interest is compounded the more money you can make.

Annual Percentage Yield or APY. APY is a function of APR, but takes into consideration the compounding effect of interest. The APY should be higher than the APR. Typically applies to checking, savings, CDs and money market accounts. Not associated with stocks or mutual funds.

Rate of Return – This term is used to define how much money you’re making off an investment. The return is expressed as a percentage of your investment. The higher the return the better. Rate of Return can be applied to all investments and is most commonly used as a means of determining the success of mutual funds and stocks.

Liquidity – how quickly and readily available you can withdraw money from the investment without a penalty. For example; if you have money in your savings account you can remove your money at any time without penalty – your savings account is viewed as being very liquid. However, if you invest in a Certificate of Deposit (CD) for a five year term, removing those funds to buy a house or car will typically cost you a penalty – you’re going to give up some of your money if you don’t meet the term length. In these two examples, your savings account would be viewed as more liquid than a CD.

Risk Factor – The probability that an investment will not achieve, or will under perform your expectations. If you currently earn 1% interest annually on your savings account, the risk factor would be considered low. For all practical purposes the bank will pay you 1% annually if you keep your money in their account. Trading stocks daily would have a high risk factor because the ups and downs of the market may cause you to lose money in the short term. Risk is often correlated with time. For example; although stocks are considered a risky investment in the short-term, over the long-term they have traditionally performed very well, and have a greater return than a savings account.

Now that you understand some of the basic terminology used in the investment community, here are some examples of how you can use these terms to better understand various investment options.

If you are exploring different checking, savings, CDs or money market accounts. What is the annual percentage rate and the APY?

Opening a CD account. How often is the interest compounded and what is the APY?

Talking about mutual funds or stocks. What has been the rate of return on that investment?

Investing in a mutual fund. What is the rate of return over the past five years? How liquid is the mutual fund? Is there a penalty for early withdrawn?

Investing at any level is a progressive process, you learn by asking the right questions and by doing. These terms are not to be considered the end-all in relationship to understanding the world of investing, but they are a place to start.

Kevin is the owner of FTP and an author of the personal finance book series Filling The Pig. He uses his own past successes with debt, saving cash, investing and running his own home based businesses to teach others about Creating a Lifestyle of Opportunities.

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